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Vanderbilt Journal of Entertainment & Technology Law

Volume 2 Issue 2 Spring 2000 Article 1

2000

Guarantying a Hit (or Miss): Understanding the Completion Guaranty Business in Hollywood

James W. Coupe

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Part of the Contracts Commons

Recommended Citation James W. Coupe, Guarantying a Hit (or Miss): Understanding the Completion Guaranty Business in Hollywood, 2 Vanderbilt Journal of Entertainment and Technology Law 137 (2020) Available at: https://scholarship.law.vanderbilt.edu/jetlaw/vol2/iss2/1

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rs itanic was. So was Waterworld. Heck, even The Adventures of Baron MunchausenBy James was. W. Coupe Blockbusters? No. Oscar winners? Wrong again. Yet these three do share one unfortunate characteristic - each of these pictures was over budget, drastically in some cases. Although caused by different forces and cured by different individuals, each eventually forced someone to pay a great deal of money unexpectedly. Like many unforeseen expenses, these too can be insured against. Enter stage right, a completion guaranty company. Any and all film productions financed by non-producer third parties should have a completion guaranty.1 In the most fundamental terms, a completion guaranty 2 does exactly what its name implies-it guarantees that a film will be completed and delivered to the distributor by a certain date. In furtherance of this promise, the completion guarantor has the contractual authority and obligation to: 1) compel the producer to complete and deliver the film and advance any sums in excess of the budget required by the producer to do so, 2) take over production herself and complete and deliver the film, or 3) abandon production and repay the financier out-of-pocket expenditures plus interest with respect to the film up to the contractually established limit of liability. Understanding the detailed operations of a completion guaranty requires a base knowledge of the underlying film transaction. The simplest form of film financing involves four major players: pro- ducer, distributor, financier, and guarantor. 3 The first contract occurs between the producer and dis- Understanding the Completion Guaranty Business in Hollywood

tributor. Under a typical arrangement, the producer agrees to make the film and deliver it to the dis- tributor in accordance with a number of agreed upon technical specifications. In return, the distrib- utor must pay the cost of the budget plus interest. These specs include such things as the , running requirements, and often cast and director. Once such an agreement is in place, the produc- er secures financing from a bank or other financier in the amount payable under the distribution agreement. 4 The producer then assigns the distribution agreement to the bank as its sole collater- al. 5 Simultaneously, the distributor agrees not to interfere with the film and to pay back the bank upon timely delivery of the "completed film."6 As with any loan, the financier conducts a credit analy- sis on the distributor and takes the risk that the distributor will default. However, banks and cer-

1c;a hit (or miss) tain financiers are not in the business of producing films dozens of other production issues must also be insured. and frequently want and need to protect themselves from The completion guaranty provides no protection from the risk that the film will not be completed in accordance potential losses with regard to this interest. Therefore, with the contractual provisions. As a result, the financier one should properly view a completion guaranty as a sup- 9 will typically require the producer to secure a completion plemental form of security only. This notwithstanding, guaranty. The guarantor assures that the bank's collat- the total insurance package will be reviewed and eral (the film) will be completed and delivered in a time- approved by the completion guarantor from both a cover- ly and technically correct fashion. age and limit perspective since the completion guarantor In an effort to minimize the risk inherent in guaran- assumes responsibility for the insurance vis-A-vis the teeing the completion of a motion picture, the guarantor bank or financier. In addition, the producer must pur- and financier use an inter-party agreement. 7 All of the chase errors and omissions, general liability, auto liabili- aforementioned participants to the financing execute this ty, guild travel, workers' compensation, payroll, and agreement, which thereafter, by its terms, becomes the umbrella coverage. When a film is shot in a foreign loca- overriding and unifying agreement of the financing tion, foreign general and auto liability must be purchased process. This document reconciles all of the inconsisten- as well as foreign workers' compensation. This compre- cies among the various contracts heretofore involved in hensive insurance package is designed to cover any the transaction and sets forth, in very narrow terms, the insurable risk on the film. In contrast, the completion obligations of the completion guarantor in relation to the guarantor's risk is limited purely to the completion risk. film.8 In the event of conflict between the inter-party The conditions and exceptions in the completion guaran- agreement and the distribution agreement, the inter- ty further limit the completion guarantor's potential liability. party agreement prevails. Therefore, the completion As a first condition to the completion bond, the pro- guarantor insures that the film will be delivered in accor- ducer must execute the producer's completion agree- dance with the inter-party agreement. This relieves the ment, which sets forth the rights and obligations of the 10 completion guarantor from the untenable position of completion guarantor vis-a-vis producer. The guaran- assuming risk based on several interdependent and tor should also confirm that all fees due to it have been inconsistent agreements. paid and that the 10 percent contingency for the film has 1 Obviously, the actual process of acquiring and execut- been funded. 1 The completion guaranty fee, which typ- ing a completion bond is much more complex than may ically equals two to three percent of the budget, usually appear from this brief description. This Article seeks to must be paid upon issuance of the completion guaranty 12 answer a number of frequently asked questions regard- documents. In addition, a completion guarantor will ing the obligation and liability undertaken by the com- sometimes require a deferred fee of one to two percent of pletion guarantor. the budget. If required under the documentation, the producer will pay the deferred fee only if the completion The Extent of the Risk guarantor is required advance funds towards completion of the film.1 3 The deferred fee is either paid to the com- On the surface, guarantying a film may appear like pletion guarantor to hold in escrow, or reserved, but not quite a risky undertaking. In fact, however, a number of advanced, as part of the bank loan. This fee acts as an factors aid in reducing much of the risk. One principal additional contingency to be applied by the completion guar- factor is the existence of insurance. The insurance pack- antor in the exercise of her discretion towards the comple- 14 age for the film greatly limits the extent of the guaranty tion of the film after the original contingency is depleted. obligation. Insurance always serves as the primary eco- On a theoretical level, the completion guarantor may nomic protection for the film. The completion guaranty wish to become involved in managing the film as soon as merely supplements the insurance. In addition, the com- cost overages and/or delay problems begin to occur. The pletion guaranty is further limited by the conditions and completion guarantor would then examine why the over- exceptions contained in the completion guaranty itself. ages are occurring and require the producer to take As previously mentioned, the completion guarantor appropriate steps to get the production back on course. insures that the film will be completed by a specified time However, the contingency fee and, if applicable, deferred and in a specified manner. Of course, property and fee serve as a cushion for the guarantor. The vast major- ity of all films that are guarantied are completed within ity for the producer's failure to obtain title to or license to this 10 percent buffer. Consequently, the completion use the story, script, music or other rights in connection guarantor has the necessary flexibility to work with the with the film. In addition, the completion guaranty producer in a constructive manner towards the common excludes responsibility for the film infringing or alleged- goal of keeping the film on budget and on schedule. As a ly infringing the rights of others, including invasion of result, the completion guarantor can frequently avoid the privacy claims. Instead, the producer and the financier need to become more directly involved with the project. would look to the errors and omissions insurance policy The second condition to the completion guaranty for protection against these claims. should require that the film financier make available, as 2. The completion guaranty excludes coverage for war needed, an amount equal to the budget of the film. The risk and certain specified nuclear perils. This exclusion is producer or the completion guarantor use these monies standard for all policies relating to the film. to pay for the items contained in the approved budget. If 3. The completion guarantor does not guaranty that the full financing of the budget is not provided according the film will be shot in a certain way, that the director or to the approved cash schedule, the completion guarantor the actors will correctly interpret the screenplay, or that The completion guarantor may wish to become involved in managing the film as soon as cost overages and/or delay problems begin to occur. The completion guarantor would then examine why the overages are occurring and require the producer to take appropriate steps to get the production back on course.

does not have any responsibility to perform under the the film will be a commercial success. The completion guar- completion guaranty. In addition, the completion guar- antor is responsible only for the technical quality of the film. antor has the right to accelerate the cash flow of the film 4. The completion guaranty typically excludes any if required. Although the completion guarantor always responsibility for the film's failure to conform to the stan- verifies the financing and the cash flow schedule to con- dards and requirements of the production code of the firm that they can sufficiently and timely cover all Motion Picture Association of America (MPAA) or any requirements of the budget, it does not assume any other group or organization of similar nature having cen- financial risk regarding the credit-worthiness of the fin- sorship, seal, or rating authority over motion pictures, ancier. On a similar note, the completion guaranty wherever located. However, the completion guarantor usu- agreement typically prohibits the financier from interfer- ally guaranties a MPAA rating no more restrictive than R. ing with the use of these funds advanced for the produc- 5. The completion guaranty further excludes deliver- tion. If the completion guarantor believes that the fin- ing items not listed on the delivery schedule approved by ancier is not complying with either of these require- the completion guarantor at the start of the film. The ments, the completion guaranty usually sets forth a pro- approved delivery schedule should be attached to the cedure whereby the completion guarantor notifies the completion guaranty and inter-party agreement as an financier and gives the financier three business days to exhibit. The completion guaranty will also not cover editing cure the interference. As an additional deterrent to fin- after the film is completed and delivered to the distributor. ancier interference, the agreement should make clear 6. The completion guaranty does not protect against that the financier is responsible for all costs incurred as the risk of dishonesty, fraud, or criminality on the part of 1 5 a result of the interference. the financier or its officers and employees or its bankruptcy. Typical exclusions in a completion guarantee agree- 7. The completion guaranty will not cover the legal ment include: fees of the producer or the bank in excess of the amounts 1. The completion guarantor will not take responsibil- specified in the budget. Additionally, the completion guarantor will not be liable for the interest costs which pletion guarantor, at any one time in the process, never are in excess of the budgeted amount or if not in the accumulates too much risk on an individual film or the budget, an amount agreed upon between the bank and group of films being guarantied. completion guarantor. A completion guaranty fee is not During the pre-production period, the main activities assessed on the interest in order to be covered under the of the producer include preparing the film for principal completion guaranty. photography, hiring the cast and crew, and ordering the 8. Losses arising from the variation in currency materials and equipment necessary for the production of exchange rates from those rates of exchange used in com- the film. In this time frame, which typically lasts four to puting the approved budget are also excluded from cov- eight weeks, the completion guarantor bears little risk. erage under the completion guaranty. The producer typ- As a practical matter, the completion guaranty is nor- ically solves the currency loss risk by purchasing forward mally not put in place until just before the shooting of the contracts from the bank. film. Under these circumstances, the completion guar- 9. Any cost, expense, or delay arising from a strike, or antor would have to sign off on any expenses incurred other labor action by the Teamsters or the International until the date of closing of the completion guaranty and Association of Theatrical and Stage Employees, or the make sure that all were budgeted. Even if the comple- forced unionization of the film's crew by such guilds is tion guaranty is put in place during the pre-production 16 excluded from the completion guaranty. period, the risk during this period is minimal. The 10. The completion guarantor does not guaranty a money spent on pre-production pales in comparison to lien-free film, only that it will pay the costs of production the amount spent during filming.

Once wraps, the completion guarantor, although not completely out of the woods, can breathe a great sigh of relief. required to fulfill its obligation to complete and deliver During the production phase of the film, the risk to the the films set forth in the completion guaranty. Thus, if completion guarantor increases significantly from the the producer incurs costs such as an unbudgeted wrap pre-production period. In production, the cast and crew party, the completion guarantor will not pay these costs perform the bulk of the work relating to the film, which and the charge may become a lien on the film. consequently results in the greatest expenditure of This list of exclusions is not exhaustive, but contains funds. As a result, the guarantor takes great pains to the most basic exclusions. After the completion guaran- insure that every step of the production process follows tor performs the production and legal analysis on a par- the guidelines set forth in the completion agreement. For ticular film, it may also add special exclusions on a case example, the completion guarantor frequently sends a by case basis. representative to the set to make sure that the film is being made in accordance with the approved budget, The Duration of the Risk script, and schedule. This production representative, who may stay on the set for a few days or several weeks, views Due to the inherent nature of film production, the risk the shooting of the film as well as the "" to make faced by the completion guarantor ebbs and flows as the sure that the film follows the screenplay. These "eyes film moves through the phases of production. There are and ears" of the completion guaranty company are com- three distinct phases of the making of a film: the pre-pro- mitted to making sure that the director and the producer duction period, the production period, and the post-pro- are not increasing the scope of the film. Regardless of duction period. The risk for a film going over budget is whether a representative is sent to the set, the comple- greatest during the production period, when principal tion guarantor receives and reviews daily status reports photography takes place. Fortunately, this is also the and weekly cost reports sent to it by the producer. These shortest period in the production process. Thus, the com- reports include a summary of the estimated costs associ- ated with finishing the project, up to and through the repay the financier all advanced funds or complete and delivery date. In this way, the completion guarantor is deliver the film. Even so, productions are rarely aban- able to closely monitor the film and take early action if doned. The most common situation in which films are the film starts to veer off course. Once principal photog- abandoned during production involve insurable events raphy wraps, the completion guarantor, although not com- for which the completion guarantor would not be held pletely out of the woods, can breathe a great sigh of relief. responsible. For example, when John Candy tragically The post-production period commences when filming died two weeks before the end of principal photography of ends and the production company begins the editing Wagons East, the filmmakers abandoned the project. process. Few employees-limited to the editor, the direc- However, the cast insurance on the film completely tor, the producer, and key crew members-remain on the repaid the bank all advances made to finance the film. In payroll for the duration. Consequently, the funds spent such a situation, the completion guarantor does not incur during this phase are quite limited in comparison to the any costs on the abandonment, retains her up-front fee, production period. The completion guarantor will ensure and is released from all of its obligations under the com- against adverse developments in this phase by insisting pletion guaranty.18 that the producer include funds in the budget for a post- Moreover, the "involuntary" payoff risk of the comple- production supervisor who is approved by the completion tion guaranty not covered by insurance applies only in guarantor. The supervisor coordinates the activities of two situations: (1) when the film is not delivered to the post-production and makes sure that the producer, direc- distributor on time, or (2) the film as delivered to the dis- tor, and editor stay within the post-production budget tributor does not conform to the technical specifications and on schedule to deliver the film on time. In addition, of the inter-party agreement. While these payoff risks the producer must continue to issue cost reports to the may seem significant, the analysis below will show that completion guarantor so that the completion guarantor they are almost entirely within the control of the comple- can take corrective action if the post-production begins to tion guarantor and are cushioned by the cure periods go over budget. Finally, if harboring any doubts regard- built into the inter-party agreement. In fact, the comple- ing the films conformity to specifications, the completion tion guarantor underwrites both the delivery date and guarantor can exercise its contractual right to view the the technical specifications of the film. If the completion rough cut of the film to make sure that it conforms to the guarantor cannot negotiate either of these key terms to technical specifications. However, a completion guaran- her satisfaction, it can and should simply decline to issue tor who ignores the post-production period does so at its a completion guaranty for the film. own peril. Many films, not properly monitored, have In underwriting the time frame for the film, the com- gone over budget in post-production. In sum, the com- pletion guarantor examines the budget, schedule, and pletion guarantor can manage the risk during all phases script to determine whether the film can be delivered on of a film's production by instituting the appropriate pro- the delivery date signed in the budget and schedule. cedures during all phases of production. However, the completion guarantor does not accept the budgeted delivery date as the contractual delivery date The Guarantor's Payoff Risk for purposes of the completion guaranty. Most comple- tion guarantors add a cushion of two to four weeks as a A complete payoff rarely takes place when financing normal part of the underwriting process to account for through a completion guaranty.1 7 Furthermore, the com- unforeseen events. In addition, a further cushion period pletion guarantor has substantial protections, cushions, of between 60 to 90 days of automatic extension, which and cure periods regarding its payoff risk involved in the completion guarantor can trigger is added to the delivering the film to the distributor. If problems do delivery date for periods of force majeure and/or exigen- arise, the completion guarantor can ultimately arbitrate cies of production. 19 Given the broad definition of force any dispute with the distributor that cannot be success- majeure, the completion guarantor does not have to jus- fully resolved within the cure periods provided for in the tify extending the delivery date of the film by as many as inter-party agreement. 90 days, but must merely give notice to all parties. During the production of the film, the guarantor has The Thief and the Cobbler (released as Arabian sole discretion to decide whether to abandon the film and Knight) offers one famous example of a film where the failure to timely delivery resulted in liability under a guarantor should follow a careful procedure before agree- completion guaranty. This payoff concerned a "pen and ing to such a guaranty. The completion guarantor would ink" animation being done in England. The completion first review the screenplay to make sure that it does not guarantor who agreed to guaranty this film did not have contain scenes of violence or sex which pose a risk of a any expertise in estimating how long animated films usu- NC-17 rating. In questionable situations, the completion ally take to complete. A "pen and ink" film is very differ- guarantor would get written inducement letters from the ent from a live action film in that this animation requires producer and the director agreeing to shoot the screen- the drawing of thousands of individual cells which are play in such a way that it qualifies for an R rating. In sit- then hand painted in various colors. This process is a uations where a NC-17 rating is awarded on a prelimi- very meticulous and lengthy operation, involving hun- nary basis by the MPAA, the completion guarantor dreds of animators. As such, controlling the production should have the right to re-edit the film to qualify for an presents many challenges not typically faced by a com- R rating by removing the scenes to which the MPAA pletion guarantor. Although the completion guarantor in objects. In addition, filmmakers typically shoot extra question attempted to properly underwrite the film by footage for their films to be used in the television version consulting an animation expert, it did not take into of the film. This footage often contains "cover shots" account how complicated this animation would be to com- which film around sex or violence and could substitute plete. When the film missed the delivery date, the dis- for the scenes cited as objectionable by the MPAA. tributor agreed to extend the delivery date for several If the film as delivered is timely and technically cor- months. However, the delivery date was so miscalculated rect, then the completion guarantor has no further that the domestic distributor ultimately decided, after a responsibility and is automatically released from its obli- number of extensions, that it would no longer wait for the gations under the completion guaranty and inter-party film. Although the completion guarantor had to repay agreement. Therefore, if the distributor defaults on its the bank, it was able to complete the film by retaining the payment obligation once the film is delivered, the finan- foreign distributor and securing a new domestic distributor. cier has no cause of action against the guarantor. Non-compliance with the technical requirements of Moreover, one should keep in mind that the number of the distribution agreement comprises the other potential films encountering delivery problems due to technical forfeiture risk.20 Moreover, to insure against human problems is minute; estimated to be fewer than 3 percent technical error, the completion guarantor will only of all films guarantied on an industry-wide basis. approve crew members, such as the director of photogra- The procedure for delivery of the film to the distribu- phy, who are experienced and know how to shoot a film in tor is clear and structured. The producer, under close a technically correct manner. Pursuant to the producer's supervision by the completion guarantor, delivers the completion agreement, the completion guarantor's repre- film elements and gives notice of delivery to the distribu- sentative is given the right to view the results of each tor with a copy to the completion guarantor. 2 1 The dis- day's filming in order to verify that the film is being shot tributor has approximately 10 days to respond. If the dis- in accordance with the screenplay and in a technically tributor fails to respond, then the film is automatically correct way. In sum, the uninsured technical risk relat- deemed delivered, the bank's payment from the dis- ing to the film materials themselves is not significant tributor is vested, and the completion guarantor is except in some of the low budget films. automatically released. An often overlooked, but potentially important, tech- If the distributor objects to the film as delivered for nical specification is the eventual MPAA rating. technical reasons it must state the specific objections in Typically, the completion guarantor would only guaranty a detailed written response. Once notified, the comple- a rating no more restrictive than R. This means that the tion guarantor has 30 business days to cure the defects. film does not contain scenes that would preclude it from If the distributor still objects to the film, the delivery 22 being distributed by the major film distributors and the- becomes subject to arbitration. ater chains, as most distributors do not market NC-17 At first glance, it might appear that the completion films. Given the liberalized standards of the MPAA, the guarantor would be in a payoff situation if all of the film completion guarantor has more flexibility in taking this elements were not delivered on time. However, the doc- risk than a decade ago. Nonetheless, the completion uments are typically drafted to give the completion guar- antor additional flexibility should the film encounter picture, but it must be able to articulate the reasons for time problems. If all the film elements are not delivered the takeover, such as the producer's failure to follow by the extended delivery date (that is, the completion instructions or the specific financial overages which guarantor has exhausted all of its cushions and extension make the completion guarantor more exposed to finan- periods under the completion guaranty), the completion cial risk. The completion guarantor usually examines guarantor could still deliver the missing items within the the production cost figures available after the first two 30 day cure period-provided that the essential physical weeks of filming to make this determination. If after delivery items were delivered. Typically, the distributors examining these figures, the completion guarantor's pro- routinely extend the delivery date of films beyond those duction executive projects that the course of production dates cushioned by the inter-party agreement. Distributors will result in an amount equal to or greater than a cer- have a built-in incentive for such extensions as they want tain percentage of the contingency being expended for In situations where a NC-1 7 rating is awarded on a preliminary basis by the MPAA, the completion guarantor should have the right to re-edit the film to qualify for an R rating by removing the scenes to which the MPAA objects.

the producer to create the best film possible and not to feel the costs or the expenses of the production, then the com- pressured or rushed by an artificial delivery date. pletion guarantor would give instructions to the produc- er and assume control over the film if the instructions The Risk of Tort Actions were not implemented. This standard can be substanti- ated through weekly cost reports from the producer, as In theory, a completion guarantor exercising his right all such reports must include an estimated cost of com- to terminate the producer may be accused of a wrongful pleting the film. This estimated cost to complete will termination claim. Like with nearly all risks, however, show what the film will cost if the production continues there are steps the guarantor can take to reduce this pos- to follow a certain course of production. By using such a sibility. For example, the guarantor can predicate the standard as part of the agreement between the producer right to take over the production on accepted industry and the completion guarantor, both the parties know standards and further allow the producer ample time to where they stand as far as the completion guarantor's cure the events giving rise to takeover. In addition, the right of takeover is concerned. 2 3 producer may simply be left in place-provided she fol- On virtually all films, the completion guarantor's rep- lows the completion guarantor's instructions and resentative would examine the first cost reports after two refrains from interfering with the completion and delivery of weeks of filming. After analyzing the data, the guaran- the film. tor has three potential courses of action. The guarantor The completion agreement should clearly establish the should remain uninvolved if the data, projected over the producer's obligations towards the completion guarantor course of the production, indicates that very little of the and set forth objective standards designed to avoid poten- contingency will be spent. If these reports indicate that tial claims of bad faith. As part of the documentation, the an amount between 25 and 40 percent will be exhausted producer also acknowledges and agrees to waive any before the film wraps, then the completion guarantor third party beneficiary interest under the completion may wish to begin issuing instructions to the producer. guaranty or any other documents to the completion guar- However, experience shows that most completion guar- anty transaction. antors would likely not exercise the takeover The takeover language in the producer's completion unless the cost reports projected that a larger percentage agreement usually sets further standards for takeover. of the contingency would be exhausted by the end of prin- This means that the completion guarantor can take over cipal photography. Should the guarantor decide to take production if it deems itself insecure with regard to the the production over, the producer is typically granted up to 72 hours to cure, if possible, the cause of the overages. production company is a special purpose company often As a practical matter, this usually involves securing from formed to make the film. This indemnity is composed of the distributor a deposit into the production account of two categories. The first category provides immediate sufficient funds, in the completion guarantor's judgment, payment indemnity relating to losses due to specific to eliminate the overage amount and to replenish at least breaches of the producer's completion agreement, which part of the contingency. If the producer, financier, or dis- will not be realized from a special purpose production tributor fails to deposit these funds, then the completion company.2 5 The second type serves as a general indemni- guarantor would likely move to take over the motion pic- ty covering the advances made by the completion guar- ture. Unless the producer and the crew members are antor to complete the film. Under this general indemni- uncooperative, they will stay in place and follow the ty, the individual producers and the production company orders of the completion guarantor's representative, who both agree that any proceeds payable to them from the takes the necessary actions to bring the production back exploitation of the film will first be paid to the completion 2 6 on course and finish the film. guarantor until fully recouped for its advances. Despite common misconceptions to the contrary, the obligation undertaken by a completion guaranty company is quite limited and well worth the associated risk.

If only a moderate percentage of the contingency were At the present time, none of the completion guaranty projected to be exhausted, the completion guarantor and companies are imposing the personal indemnity require- the production representative would choose a more mod- ment on the producers as a normal part of the under- erate approach. This strategy includes monitoring the writing process. All too frequently, individual producers film more closely and meeting with the producer and the simply do not possess assets substantial enough and/or director to encourage them to bring the production back would not put those assets at risk. In addition, the banks on course. The completion guarantor should also require and the financiers that lend in the entertainment area that the production representative countersign all checks are agreeing to look solely to the distribution agreement issued by producers and countersign all material and as collateral, so that the loan is extended to the produc- work orders. ers on a non-recourse basis. This is not to say that the guarantor has no way of stressing to the producer the Shifting the Risk need to complete the film on budget. As an alternate route, a completion guarantor unsure about a project A completion guarantor is not likely to obtain an could require a larger contingency up front, such as 15 indemnity from the individual producers or, in the case of percent of the direct cost budget. For a more direct a parent company, a corporate indemnity. However, as impact, the guarantor may wish to require the producer discussed herein, there may be better approaches which and/or director to pledge part of their fees until delivery achieve the same protection for the completion guaran- of the film. Furthermore, unsold foreign territories in tor, while appealing to the producer. Accommodating the excess of the collateral used for the bank loan could be producers is important as they, with the approval of the made available to the completion guarantor to further financier, have the role of actually selecting the comple- collateralize the producer's obligation. These approaches tion guarantor. avoid the completion guarantor's requiring a personal As referenced earlier in this article, the producer's indemnity, thus avoiding any negative marketing impli- completion agreement between the completion guarantor cations for the completion guaranty company. and the producer sets forth the producer's obligations towards the completion guarantor.24 This arrangement Recovering on the Risk typically limits the producer's indemnification of the guarantor to the indemnity of the production company. A When the producer negotiates an agreement with the distributors, one of the key terms involves the right to and distributor.2 7 receive a portion of the proceeds from the exploitation of Spreading the Risk the film. 2 7 Typically, various deductions are made from the gross receipts of the film prior to payment of these In the completion guaranty transaction, distributors proceeds. These deductions include distribution fees, have no active involvement in making the film. Their gross participations to actors, distribution expenses, and role involves simply paying for the film upon delivery recovery of the financing costs of the film plus interest on after its completion. As a result, they could not be added these items. The financing costs are paid by the distrib- as a party to the completion guaranty or give any indem- utor, upon delivery of the film, to the bank. In turn, the nification to the completion guarantor. As part of the completion guarantor, under its producer's completion financing arrangement, described herein, the distributor agreement and the inter-party agreement, requires the gives up any controls it may have under the distribution producer to assign all rights to receive any proceeds from agreement. Indeed, the inter-party agreement specifical- the film payable to the producer. This assignment ly requires the distributor to give up any supervisory or attempts to protect any advances made by the completion takeover rights in the film in favor of the completion guarantor, although completion guarantor's recovery in guarantor. As a result, the distributor becomes a passive event of a loss is dependent on the commercial sucess of party to the financing transaction. After it negotiates the the film. Additionally, the assignment is secured by a technical specifications with the completion guarantor, it security interest, protected by filing UCC-1 statements does not become active in the process until the film is in the appropriate jurisdictions and a mortgage of copy- delivered. As a practical matter, the completion guaran- right with the U.S. Office. Under the inter- tor will allow the distributor to enhance or improve the party agreement, the distributor agrees to pay the pro- film as it moves through the production process. ceeds of the film due to the producer directly to the com- However, the distributor must deposit, in advance, the pletion guarantor when the completion guarantor has been full costs of any requested enhancements or changes required to advance funds under the completion guaranty. made to the film into the production account. The com- In cases where the producer has not secured a share of pletion guarantor has sole control over determining how the receipts of the film as part of the distribution agree- much the distributor must deposit and how many weeks ment, the completion guarantor negotiates directly with this change will add to the delivery date. The completion the distributor to secure a recoupment position. The guarantor will add a cushion to any estimate and secure guarantor then becomes the last item of cost on the film, an agreement from the distributor for additional funds before the film occupies a "profit" position. The exact def- and time if the original estimate turns out to be insuffi- inition of the "profit position" of a picture varies from dis- cient. Therefore, although the distributor may be allowed tributor. In essence, however, it is the point at which the a certain level of input into the process, the inherent distributor has recovered its investment in the film, its nature of the relationships keeps the risk from shifting 8 financing costs, print and advertising costs, distribution onto the distributor.2 fees, and interest on all these items and is subject to fur- ther deduction for residuals and participations by actors and the director. Under this approach, the completion Still Worth the Risk guarantor would recoup before either the distributor or the producer received any "net profits" from the film. Despite common misconceptions to the contrary, the Obviously, the completion guarantor must carefully obligation undertaken by a completion guaranty compa- underwrite the producer's recoupment position. If cor- ny is quite limited and well worth the associated risk. As rectly done, this recoupment can work to reimburse the an initial matter, the obligation merely serves as second- completion guarantor for part or all of its advances plus ary policy to all the other insurance on the motion pic- interest. For example, the completion guarantor fully ture. Second, the completion guaranty sets forth a num- recovered the approximately $1 million in over budget ber of conditions and exceptions which further narrow funds in Fried Green Tomatoes due to the favorable the obligation of the completion guarantor. Finally, the recoupment position negotiated between the producer inter-party agreement works to reduce the completion guarantor's exposure by requiring the completion guar- through the various stages of production, including as antor to deliver a film which conforms to well-defined, previously mentioned receiving regular reports and send- narrow, technical qualifications. ing representatives to the set when appropriate. Special Most completion guarantors will use their experienced attention will be focused on all films when they are in team of production, legal and financial professionals to principal photography. Moreover, the completion guar- carefully underwrite each film. By implementing their antor will design and implement special controls on a procedures in a consistent manner, these professionals case by case basis, in light of the special production fac- can insure that each film fits within the completion guar- tors of a particular film. This business can be done with antor's underwriting parameters (i.e., the screenplay can minimal losses and substantial returns-if careful be made, for the budget, and within the time allowed in underwriting and monitoring procedures are used and the ). Also, the team will jointly eval- administered through a highly trained and specialized uate the credentials of the producer and director to deter- professional staff. + mine whether they present a good risk for a completion The author thanks Ken Sargent, his assistant, and Joshua Ferguson for guaranty.29 Completion guarantors will also establish their help with this article. careful monitoring systems for the film as it moves

1 See Elizabeth 0. Hubbart, When Worlds Collide: The Intersection of 9 The additional portfolio insurance coverage typically consists of Insurance and Motion Pictures, 3 CONN. INS. L.J. 267, 304 n.19 (1997) insuring the cast; props, sets, and wardrobe; extra expenses; third (quoting Ken Coopman, [S]enior Mice [P]resident and the Bank of party property damage; miscellaneous equipment and office contents; America's [E]ntertainment [G]roup, "I wouldn't finance a film without money and currency; negative film coverage, faulty stock camera, and a completion bond."). processing coverage.

2 See Thomas F.R. Garvin, Counseling Clients in the Entertainment 10 In order for the completion guarantor to issue a completion guar- Industry 1997 (Film-Advanced), 474 PRACTISING L. INST./PAT. 321, 404 anty agreement, it must have a corresponding agreement executed by (1997) (providing a definition of "Completion Guaranty" in a sample the producer which acts as a security agreement and sets out the completion guaranty agreement). duties, representations, warranties, and convenants of the producer. This document also grants the completion guarantor the right to regu- 3 See id. (identifying the producer, distributor, lender and guarantor late the production and, under certain conditions, take over comple- in a sample clause in a completion guarantee agreement). tion and delivery of the film. A number of exhibits are attached, including a bank account takeover letter appointing the guarantor as 4 See Tim Connors, Beleaguered Accounting Should the Film sole signatory on the account upon notice to the production account Industry Abandon Its Net Profits Formula?, 70 S. CAL. L. REV. 841, bank and a power of attorney in favor of the completion guarantor 862 (1997) ("A bank will provide the producer with production financ- allowing him to complete and deliver the film on takeover. ing secured by the studio's promise to pay the cost of production and by a completion guaranty company's promise to supply additional 11 The completion guaranty fee is the premium charged by the com- funds (or repay the bank loan) should the film go over budget."). pletion guarantor. The percentage is taken against the direct budget cost-the "above-the-line" costs plus the "below-the-line" costs. The 5 See Matthew C. Thompson, Balancing Grants of , 14 above-the-line costs include the writer fees, development costs, direc- No. 7 ENT. L. AND FIN. 1 (1998) ('The bank will not lend production tor and cast costs. The below-the-line costs consist of the all the costs financing to the producer unless it is granted a first position security of producing the film-labor, transportation, post-production, sets, interest. Likewise, the completion guarantor will not bond the film and so forth. unless it is granted a second security interest, subordinate only to the 12 See Kim Williamson "A New Bond Among Guarantor," HOLLY-WOOD bank. Accordingly, the bank and the completion guarantor will insist that the distributor acknowledge that it has no interest in the film REPORTER, Jun. 27, 1994, available in 1994 WL 14328340 ("Back in until the minimum guarantee is paid in full."). It should be noted that 1980-the year before C[ompletion] B[ond] C[o.] launched-the stan- the distributor has the right to make pre-delivery sales and has lab dard premium was a flat 6 percent... During the following decade, access to film materials to make trailers and advertising materials the lure of that steady rate of return drew more companies to the prior to delivery of the film. business ... and a rate war ensued. Premiums dropped to a net 3 per- cent (6 percent with half of that rebated if no claim resulted), then 6 In this context, a "completed film" is one which meets all of the con- ratcheted to 3 percent minus rebate and finally fell as low as 1 per- tractual requirements (e.g. running time, screenplay). cent-sometimes still minus a rebate... The industry has now settled 7 The inter-party agreement is the most important document of the down, [t]he rates have climbed back not to where they were in the financing process. Entered into by the financier, guarantor, distribu- early '80s but to an area that's at least 'functionable' for both an tor and producer, it sets out all the terms and conditions required for underwriter and a bonder."). delivery and provides for arbitration to settle all disputes. 13 In the present climate, completion guarantors only assess this fee 8 Specifically, the agreement dictates the specific technical require- on particularly risky projects. ments to which the film must conform. 14 See infra p. 138 (demonstrating a breakdown of these fees in the 22 Most films do not go into arbitration on any technical difficulties context of our $5,000,000 hypothetical budget). See also infra Exhibit since these are either covered by insurance, or they can be corrected B p. 148 (summarizing how these fees would work under three sepa- within the 30 business day period. However, when a distributor does rate scenarios). not like a film from a commercial viewpoint it may try to arbitrate on an invalid technical objection to get out of paying for the film. 15 See infra pp. 139-40 (providing examples of additional limitations often contained in a completion guaranty). 23 There are other reasons why the takeover may occur, such as when the director is not shooting the script approved by the comple- 16 In order to save substantial benefits payments called "fringes," tion guarantor and the distributor. many producers make their motion pictures with non-union crews. The producer is specifically prohibited from hiring union crew mem- 24 The producer's completion agreement sets forth the duties, respon- bers if the film is being done non-union. However, occasionally the sibilities, warranties, and covenants of the producer. This document producer either violates these prohibitions, or does not know that he further grants the guarantor the right to regulate the production, has hired union crew members. In these cases, the exception protects including potential takeover. the completion guarantor from said risks. If the bank wants the exclusion lifted, the completion guarantor can structure an additional 25 Some examples of this category would be losses due to breaches of contingency to protect itself from the cost of forced unionization, the producer's representations and warranties regarding the financial which can be estimated in advance from the size of the crew on the particulars of the film, monies required to be paid by the producer to film. cure a producer default situation, and payments for additional insur- ance if required by the completion guarantor. 17 But see supra note 12 (providing examples of large payoffs) ("Completion Bond Co... [paid on] $18 million payout to Fuji Bank 26 See Donald L. Baraf et al., Counseling Clients in the on ...The Thief and the Cobbler ...(this film was discussed in the EntertainmentIndustry 1999, 553 PRACTICING L. INST./PAT. 9, 113-114 November 26, 1988 FORBES MAGAZINE article. Please approximate (1999) ("If the completion guarantor ... has provided funds for the amounts) and another $5 million on Malcolm X. Film Finances ... production of the [p]icture, such funds shall be recouped as part of the spent $14 million to complete the unexpectedly costly The Adventures . In addition, an amount equal to interest on the negative of Baron Munchausen and $10 million on HighlanderII: The cost shall also be recouped by the respective [f]inancier . . . and the Quickening.). [g]uarantor (if provided for in the completion guaranty)."); accord Robert J. Haft & Peter M. Fuss, 4C Tax-Advantaged Sec. at B 11.04 18 Ultimately, the insurer that provided the cast insurance sold the (1996) (discussing the "at risk rule") ("P]roduction cost overruns are, film back to the producers. They eventually completed it with photo for a fee included in the budget, to be furnished by a completion guar- doubles and CGI (Computer Generated Imaging) technology and the antor (recouped by the guarantor from exploitation proceeds).") film was distributed. Brandon Lee in The Crow, Natalie Wood in Brainstorm,James Dean in Giant provide additional examples of this 27 "Exploitation," in this context, means the right to sell and screen phenomenon. the film.

19 "Force majeure" includes any accident, fire, explosion, casualty, 28 The reason that distributors do "negativepick-ups" defined as epidemic, act of God, earthquake, flood, torrential rain, strike, walk- financings where distributor pays on delivery is that they can do this out, picketing, labor controversy, civil disturbance, embargo, riot, act type of film as off balance sheet financing. of public enemy, war or armed conflict (whether or not there has been an official declaration of war), unavailability of the director or any 29 See Mark Litwak, A Checklist for Indie Film Investors to Minimize principal cast member or other key element for the film (i.e., actor, Risk, 15 No. 4 ENT.L. AND FIN. 3 (Jul. 1999) ("Before issuing the poli- director, location, etc.), unavailability of essential materials and sup- cy, the completion bond company will closely review the production plies, equipment, transportation, power or other commodity, failure or personnel, script and budget, and assess whether it thinks this team delay of any transportation agency, laboratory or any other furnisher of individuals can bring in this script within the of essential supplies, equipment or other facilities, enactment of any and budget proposed. The completion bond company usually is quite law, any judicial or executive order or decree, the action of any legally diligent in its review, because, if the film goes over budget, the bond constituted authority, or other event or cause of the nature of force company is financially responsible."). majeure beyond the control of producer, or the Guarantor, if applica- ble, whether similar or dissimilar to any of the foregoing, which caus- es an interruption or suspension of or materially hampers, interferes with or delays the commencement of production or the production or delivery of the film.

20 It should be noted that the completion guarantor is protected by insurance for certain technical defects in the film caused by faulty camera and stock.

21 See Matthew C. Thompson, riggeringthe Millennium Film Guarantee Obligation, 13 No. 12 ENT. L. AND FIN. 1 (1998) ("The pro- ducer typically argues that 'delivery of the film' is accomplished by a mere notice of availability issued by the producer or the completion guarantor stating that the specified film elements to which the dis- tributor will be granted access once the minimum guarantee is paid in full are on deposit with a previously agreed upon film laboratory."). ~Projected possible out of pocket costs of the financier and/or the producer ...... roor...... o..T he c p e o gu r n r b ng held responsiblo for funding ovorages ......

$5O000 0 Budge eFilm

eepaid when completion uarant y issued: (3pecnto $5,000,O0t) budget)O $15000 Toand inot applied oward r Contngency

iiiiiiiiiiiiiiiiii~iiiiiiiiiiiiiiiiiiiiiiiiiiii$5 0 0 i0 0 0 film de.eops.If verg.e problems.. (contingency o1.0 percent, of b..dget to be ......

Deferred Fee wher ap~ rcab{ e !!!!~iii!i!!iiili~!$!!! 100000i!i !!!~!!!

eferredFee of perent i oei reqired aa part of budget (to be u as extra ontingency when C nnncy beOre-epieed completion iiii~iii~iiiiilliii~i $750~~i!iii 000i~ii iiiiiiiiiiiiiiiiiiiiii $6iiii0n :0 00 OTA: Advances mn to compleic guarant,or

TOTAL Advances to be usdfrptniloverages

......

G~Csl/Rs k Analysis

CstoFnncr/rderCst I Complef~onGuaranto

S ccnario 1 Finaneiei obtainrs completion 'Ibtal cost to Financier/Producer is the Cornpletion guarantor retains preium Sguar anty Poue rn' h o::::::::~f$1 t)0,00tl ani:ncur n ohr os normal ov e Krhea'(. reserved, s refunded to financier. On rtha 10 percent cont.ingency......

Scenorano 2 :Finanhcier obtainis cinpletion Financiier/Produicer pay s $1 .),O000 Completion u ao hsn it fpce :o pletn. guaranty fee. fanci ...... costs if e redfeh sben obtains d.. ... sso t.. rodu...er oes ...... SFirst the $50)) 0 O{nt ir ency would be Prod)cer must fund t r, applied t ward the $a50.(00 of"overage s, ontigenvo $50,00 +pa> 2pecn ...deferred fe~e of $ 100,000 to co£mpletion...... The.reminin...... ) would be paid out...

thtte2 percent deferred fee maay or as a imtedbyvoiltongaatr .....may 'not he applicable depending whether if deferred fephcbeIfno defire~d ::it; wa :agreed as l:::::rt:::of the b:onded film. ft'e, theguaio ii-db hb for 55000

Scenaro3 ban diacecompletion Compl et:ion guarantor is li'(otet,ted froim omletion guar anty fb e whichisrane paying the first $60)000 oifove rages ...... bv compleionm guarant{or. Finamncier! by: the $5M{tO,Ot)0 coa('in{geary and: the Producer ist fund b 3e { $1 00,()0 deferred, iappliablei The contingency...... of $ "00,00 applicabl, ...... remaining $f50t,Ot00w ud b pai[d by ...... complet'um garaiitor. r, i"n:i (lefere,'d cmetogurnrtobe usedi to fee, :the coimpletion 'guara:tor would be

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